Who is ensuring the sustainability of the Treasury market?
The volume of U.S. government bonds, including bills on the balance sheet, amounted to $26.9 trillion as of Q2 2024, which is $3.65 trillion more than the level of Q1 2022 (the end of QE and the beginning of the MPC tightening procedure).
Federal Reserve's Balance Sheet Reduction
At the same time as debt growth, it should be noted that the Fed's balance sheet reduction process of $1.7 trillion began in June 2022 (from Q1 2022 to Q2 2024), during which $1.32 trillion in Treasuries were sold, and $0.38 trillion in MBS were reduced.
Strain on the Government Debt Market
The strain on the government debt market was at least $5 trillion ($3.65 trillion net offerings + $1.32 trillion net reduction in the Fed's Treasuries balance sheet), according to the Fed's calculations based on data in the Z1 report.
The Fed's share of U.S. government debt fell from 25.7% to 16.1% over 2.5 years—a result of balance sheet reduction combined with a strong increase in liabilities.
The Fed's maximum concentration in government debt was 31.9% in 1974, 18.3% before the 2008 crisis, 21.5% at the end of QE3 in Q4 2014, 14.2% before the COVID money frenzy in Q4 2019, 26.2% at the peak of the money frenzy in Q4 2021, and the average share from 2009 through 2024 was 18.3%.
How has the structure of the major holders of U.S. government debt changed?
- Fed: 25.7% -> 16.1% -> -9.6 p.p.
- Non-residents: 33.4% -> 32.9% -> -0.5 p.p.
- Households + mutual funds: 9.9% -> 16.7% -> +6.7 p.p.
- Commercial banks: 7.3% -> 6.4% -> -0.8 p.p.
- Investment funds, brokers, and dealers: 10.4% -> 14.1% -> +3.7 p.p. This includes money market funds (major contributors to the 2.63 p.p. gain), ETFs, hedge funds (0.56 p.p.), and brokers and dealers (0.74 p.p.).
- Insurance and pension funds: 3.8% -> 4.1% -> +0.3 p.p.
- State funds: 8.8% -> 8.9% -> +0.1 p.p. This category includes public pension funds, state and local government accounts, and public enterprises such as GSEs.
- Non-financial enterprises: 0.6% -> 0.7% -> +0.1 p.p.
In terms of the concentration of Treasuries on the balance sheet, the Fed and non-residents are major holders. Still, key holders are losing ground (net sales and a slowdown in the pace of asset accumulation in Treasuries relative to the pace of total liabilities in Treasuries).
Essentially, all redemptions are being carried out by households directly or indirectly through funds (mutual, money market funds, and hedge funds).
In the context of complete exhaustion of free resources and zero savings, it is impossible to maintain the current proportion of redemptions in the short term. It is necessary either to reduce the rate of borrowing, launch QE, or actively attract non-residents.
Of all these options, QE is the most realistic. There are simply no other viable options for retention.
Conclusion
The U.S. Treasury market is under increasing strain due to rising government debt and the continued shrinking of the Federal Reserve's balance sheet. As the Fed's share of government debt shrinks and major holders such as non-residents and banks reduce their positions, households, and investment funds are taking on an increasing burden.
Such a shift is unsustainable, especially in an environment of shrinking resources and low savings rates. To maintain market stability, the most viable option is to resume quantitative easing (QE).